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January 19, 2012

Merrill CIO: Europe Headed for Recession, U.S. Slowdown Later in 2012

Look to dividends, buybacks, says Merrill’s Chris Wolfe

Europe is headed for recession, and markets in the Unites States will experience a solid first half of the year before a significant cool-off. So said Chris Wolfe, chief investment officer of Merrill Lynch Private Banking and Investment Group, in an interview with AdvisorOne on Thursday. But the rash of downgrades in the eurozone last Friday did not have the expected impact, according to Wolfe.

“Europe largely anticipated the action, so there was not a big move with technical indicators around liquidity,” Wolfe (left) said. “The bigger issue is the upcoming elections in France. This will put additional pressure points on policymakers to act, especially when it comes to Portugal and Greece and their enormous amounts of debt. So the downgrades are just the point of the spear, not the entire story.”

Merrill Lynch clearly believes recession is imminent in Europe, which will necessitate rate-cutting by central banks. As to the 2012 outlook in the United States, Wolfe finds it “more of a cloudy mix.”

“Whether or not the Fed injects additional stimulus will depend on the actions taken by Europe," Wolfe says. "The U.S. will have a reasonably good first half of the year before slowing down in the second half. Consumption behavior is still hampered by high unemployment, which will combine with the end of the stimulus effect from a few years ago. The wildcard is China, and how much stimulus they will put into their system to try to keep at least some moderate form of growth going.”

As to where he personally sees good opportunities to find alpha, Wolfe said it’s a “trend-following market,” in which investors are very interested in dividends and dividend-paying companies.

“Companies are protecting their margins, which has led to a good buyback story,” he explained. “This is one way that investors can differentiate themselves. The result of the company buybacks has been a net reduction in share count. If you’re an equity holder, you’ve got to like confidence that senior management is displaying in the company by making moves like this. The buyback stories recently are either on track or have beaten dividends.”

Wolfe also pointed to income opportunities outside the Unites States, which he acknowledges are a “tough sell” at the moment, but yields in Latin America and Asia are still good for taxable investors, even though the municipal space is “something of a wash.”

“This is important because the regions have experienced issues with both energy and food prices. Food prices in particular have fallen 22% in Asia. This will most likely cause governments to cut rates,” he said.

The last area for alpha, he said, is around policy-driven uncertainty and the investments that thrive as a result; specifically commodities and managed futures.

“The investments and managers that can take advantage of the big jolts that then revert to the mean we see as doing well,” he added.

“Eurasia Group has been saying for some time that the opportunities are increasingly outside the U.S., especially as it relates to inflation," Wolfe said. "The sources of inflation are more global, something our high-net-worth clients experience first-hand, especially with purchases like high-end art.”

Wolfe added that clients are also showing an increasing interest in values-based investing, where their assets “do more than just get return. And the values-based investing has progressed to the point that they don’t have to sacrifice return in order to live those values.”